Market outlook from KBI Global Investors - May 2016

The early weeks of 2016 were dominated by a very nervous and negative market environment, with headlines at the time being dominated by talk of the potential for global recession and persistent fears about deflation. The quarter ended on a much more confident note, with risk assets including equities rallying strongly and confidence restored in the global economic recovery and the health of the corporate sector. This ‘tug-of-war’ between for example; growth or recession, inflation or deflation, rate rises or rate cuts is something we as investors are now well accustomed to. As for outlook, we at KBI remain in the ‘glass half full’ camp as we have done since the global economic and market recovery commenced after the 2008 global crisis. Market volatility remains a constant feature as do the supportive actions of central banks, which once again came to the fore during the second half of the quarter. As such the first quarter of 2016 in many ways was a quarter of two halves, finishing on a more upbeat note. I continue to see equity market dips as a buying opportunity.

The more recent Federal Reserve comments have moved to reassure markets that interest rates would not be raised excessively, quickly or without regard to financial market fragility, have provided this strong underpinning to markets. Meanwhile, the European Central Bank measures to boost bank lending and growth, including an expansion of its bond-buying programme, is also a positive. The central banks I believe will continue to support slow but steady economic growth. This growth while positive is unlikely to be robust at any time soon as we work through debt and other global overhangs.

Equities

As stated above, I regard market setbacks as an opportunity and not a threat. We are not as yet calling an end to the bull market that commenced during 2009 and I believe we have more years to run. A global economic and earnings expansion (albeit modest), supports higher equity markets from here. Equity markets in aggregate remain fairly valued and attractive versus other competing asset classes.

During the latter half of 2015 and at the beginning of 2016 I highlighted material dislocations within equity markets and felt strongly these couldn’t be sustained. I highlighted the following dislocations which concerned us:

Growth stocks that were showing a significant outperformance over value stocks at magnitudes not seen since the early 2000s TMT levels.
​

I noted a major polarisation in relation to dividend yield, where for example in North America over the prior 15 months the lowest yielding quintile of stocks had outperformed the highest yielding quintile by in excess of 20%.

These trends in all cases had resulted in major valuation gaps well beyond historic norms, which made us very uncomfortable.

At that point, I was anticipating a rotation from many of these extreme positions as I believed it would lead to a healthier overall stock market. Happily and interestingly there has been a relatively noticeable change in the first 5 months of 2016, with sector relative performance rotation; higher yield outperforming zero yielding stocks for example and a generally less defensive undertone helping value stocks and outperforming Emerging markets. We have also experienced a much better tone to commodity markets and to the surprise of many (not including us at KBI) a weakening dollar and some strength in Emerging market currencies. While the style shift year-to-date has been helpful, it has been modest from a mean reversion perspective, with potentially much more outperformance to be achieved from here I believe.

Fundamentals do always matter in the end and our concerns during 2016 was that in a risk-off/defensive mindset investors were almost investing for ‘growth at any cost’ and on the other side better valued companies or industries that were perceived as more pro-cyclical/less defensive were sold despite valuation. This is the big rotation I highlight year to date which can continue.

Meanwhile the corporate sector is in good health, with plenty of cash on its balance sheet and relatively little debt. A key driver for markets will be continued positive earnings growth over the next few quarters. I expect an increase in Merger and Acquisition activity, but also a focus on dividend yield and growth and other ways of returning cash to shareholders.

Bonds

Global government bond yields remain close to and increasingly in many cases below historic low levels. A more confident world economy and increased inflation expectations over coming quarters should again not be positive for bond yields and I would expect yields to trend higher.

To conclude, I remain positive on the outlook for the global recovery and believe equities will continue to be beneficiaries of this. In contrast, while short term central bank behaviour is seen to underpin bond markets, I remain very bearish on a more medium term horizon.

Noel O’ Halloran, Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. KBI Global Investors (North America) Ltd. is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. KBI Global Investors (North America) Ltd. is a majority-owned subsidiary of KBI Global Investors Dublin Ltd. This material is provided for informational purposes only and does not constitute an offer to sell or the solicitation of an offer to purchase any security, product or service including any group trust or fund managed by KBI Global Investors (North America) Ltd, or any of its affiliates, (collectively, “KBI Global Investors”). The views expressed are those of KBI Global Investors and should not be construed as investment advice. We do not represent that this information is accurate or complete and it should not be relied upon as such. Opinions expressed herein are subject to change without notice.

HTML is disabled and your e–mail address won't be published. Comments will be deleted if commenters leave a keyword instead of a name in the name field, if sites linked in the URL field are commercial in nature and not related to the blog, or if the comment simply doesn't add substance to the discussion.

Your Name

Email

Website http://

Comment

Spam Prevention

In order to submit this form successfully, you must complete this question

Recent blog posts

The global equity bull market is ageing but we don’t believe it is yet finished and we forecast further upside over the next 12-18 months.

So far during 2017 we have seen the winds change with global central banks increasingly taking a back seat as the core driver of equity markets and the baton is firmly handed over to traditional fundamental drivers such as economic and earnings growth. With many markets at, or close to, record highs, equity valuations are no longer cheap so it is crucial that economies continue to grow and that companies continue to deliver positive earnings growth. This remains our central scenario.

While remaining constructive we remain ever watchful to the challenges that could be meaningful headwinds for markets. This has been a constant feature of this bull market since 2009 and in particular over coming quarters we will be watching for any negatives such as:

• While we expect the Trump administration will deliver on tax reform, a negative outcome would be taken badly while trade policies need to be closely watched
• Geopolitics - Korea, Italian elections, Spain and Brexit
• The US Federal Reserve is likely to continue to raise interest rates, which is normally a negative for markets
• Inflation is picking up globally. While under control so far, an 'inflation scare' would certainly unnerve bond markets.

Asset class outlook:

Equities

We expect further upside from here but expect single rather than double digit gains. We are particularly focused on earnings and dividend growth. At this stage of the cycle, income should be a key component of equity returns.

Although markets such as the US are at or near all time highs, it is worth noting that this is because of the strong performance of a narrow group of ‘Growth’ stocks and predominantly technology related companies. The early 1990’s bull market was driven by Growth stocks as the technology bubble inflated and of course the same shares led the subsequent bear market as the bubble burst. We are mindful of this and while our exposure is limited to such stocks we do not expect an equity bear market but rather a rotation from such names towards more ‘value’ stocks and sectors which themselves are not trading at all time highs. For this to happen it is crucial that both economic and earnings growth continue to deliver. A US tax package would also be a positive.

While aggregate valuations of equity markets are above historic averages it is very interesting to note that the dividend yields available are still very attractive compared to bond or cash yields.

Bonds

Government bonds continue to struggle and are trading close to record valuations. Increasing interest rates and the threat of higher inflation over the next 12-18 months are a material challenge for bonds. They remain fundamentally unattractive to us.

To conclude, we remain positive on the outlook for global equity markets over the coming quarters. Bonds look unattractive and we are particularly excited about the value that is represented within equity markets rather than at an overall index level.

Noel O'Halloran, Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. The views expressed are expressions of opinion only and should not be construed as investment advice.

The first quarter of the year delivered another strong quarter of returns from global equity markets, led by Emerging Markets and Eurozone. The strong returns were driven primarily by a combination of improving global economic growth fundamentals , continued 'hope' of further reflationary policies from the Trump administration, a lack of negative political events or market-shock events.

From here, I remain constructive on the outlook for global equity markets.

A significant change to highlight in this outlook is that after many years where I have singled out global central banks with their low interest rates and liquidity as the driving force for market returns, I expect that the next stage will see central banks take a step backwards as market direction will be driven by stronger and more sustained global economic growth and crucially by stronger earnings and dividend growth. Finally we get back to more self sustaining fundamentals!

While remaining 'glass half full' on the outlook from here, it's fair to re-iterate my continuous analogy of this now eight year old bull market as being a hurdle race rather than an easy sprint. To date investors have overcome each successive hurdle and in many cases not without much fretting. For coming quarters I highlight some hurdles that still lie ahead for us to monitor and negotiate such as:

Brexit negotiations will drag on for many months and could affect markets

French elections will loom large and possibly dominate for the second quarter.

The Trump administration’s policy agenda (after an unsettled first few months) will be front and centre over the summer. Next up, tax cuts and infrastructure spending – both very important for markets, especially taxes.

President Trump has so far taken little or no action against countries that he views as trading unfairly with the US, including China and Mexico. Will this change?

The US Federal Reserve will likely continue to raise interest rates, which is normally a negative for markets.

Inflation is picking up globally. While under control this far an 'inflation scare' would certainly unnerve bond and possibly equity markets.

Ongoing global hotspots like North Korea – a particularly concerning example – can cause market concern from time to time.

A sudden unexpected slowdown in global growth is certainly not what I expect but can’t be ruled out.

Asset class outlook:

Equities

I remain constructive on the outlook for global equity markets underpinned by much improved fundamentals. I am particularly confident that 2017 corporate earnings growth will be meaningfully stronger than in recent years and that the upcoming first quarter earnings reporting season will be strong when compared to the similar quarter of 2016.

The reality of Brexit will become a tougher reality as visibility emerges and decisions are made. Expect some more UK specific turbulence over the next 12 months with sterling vulnerable to further downside.

I note that in aggregate global equity markets valuations are now somewhat stretched and no longer fair value. There is, however, relative value across equity regions, for example I favour Emerging markets. I also believe that stronger economic growth emerging from the European economy has been overlooked by many investors. A 'market friendly' result from the French elections could be a catalyst for renewed appreciation of these improved fundamentals.

Elsewhere the corporate sector remains in a generally strong position with stronger earnings growth driving strong free cash flow generation. This is translating to higher dividend payments, increased buy-back activity and to an extent increased capital expenditures. The strong fundamental background of improving prospects and still relatively cheap money augurs well for continued Merger and Acquisition activity.

Bonds

Global government bond yields have struggled now for the last few quarters and I expect they will continue to do the same. After many years of recording record new lows in what was best characterised as a deflationary environment, bond yields should continue to normalise to historic average yields (i.e. continue to rise) in this more confident reflationary environment. The threats of higher inflation, increased budget spending by certain governments and an upturn in the global interest rate cycle are all new headwinds to global bond investors.

To conclude, I remain positive on the outlook for global equity markets over the coming quarters. A more positive fundamental background will continue to challenge fixed income markets and I believe bond markets will continue to struggle to deliver positive returns. I highlight many challenges ahead that may cause temporary setbacks for equity markets. In general, consistent with this outlook I see such setbacks as opportunities rather than reasons to panic.

Noel O' Halloran, Chief Investment Officer, KBI Global Investors

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. The views expressed above are expressions of opinion only and should not be construed as investment advice.

Following on from a positive third quarter and spurred on by the Trump election victory global markets delivered strongly positive returns over the final quarter. KBI have characterised this current bull market as a hurdle race (one where there is constantly something to be concerned about) and the US election was another such fear during the quarter. Notably, 2016 will go down as a year where twice in a six month period, the world experienced a dramatic political outcome that completely caught consensus off-side. And equally twice in the same six months, global equity markets have not only survived the aftermath, but thrived which is the exact opposite of what the consensus would have expected. Another noteworthy event during the quarter was that global bond yields actually rose materially, reversing their previous bull market run to new historic lows. Have we finally seen the end the bond bull market?

We were modestly bullish on equities going into the fourth quarter and remain equally positive on a 12-18 month timeline. The US election result makes us more confident on the US macro outlook as we believe Trump’s more reflationary economic policies will continue to help equities and hurt bonds. The trends of Q4 should at least persist through the first quarter of 2017 coincident with President Trump taking over.

However, reflecting on the dramatic events of 2016 only serves to suggest that 2017 as a whole MAY possibly be an even more dramatic year and therefore a very volatile one for us to once again navigate through. Catalysts for potential volatility include:

• President Trump’s inauguration---headline risk’s abound and in particular in relation to ‘foreign policy’.

• The UK formally triggering Article 50 to leave the EU.

• National elections in The Netherlands, France during the first half of the year and Germany during H2. Nasty surprises?.

• The US Federal Reserve will most likely continue to raise interest rates.

• Any unexpected ‘shock’ events.

Our possible market scenarios for 2017:

1. Central case -muddle-through scenario

•The global economy does ok, led by the US which is likely to benefit from infrastructure spend and lower corporate taxes. Ongoing concerns about the Trump administrations foreign policies and election outcomes in Europe limit market upside. Government bonds generally remain under pressure as they worry about increased budget deficits, inflation and higher rates.

2. Best case scenario

•The Trump administration foreign policy implementation turns out to be far more balanced and benign than feared and delivers on domestic spending plans. Global earnings outlook is even healthier providing further strong upside for equity markets and even more pressure on bond markets.

3. Worst case scenario

•The Trump administration foreign policy implementation is even worse than feared and involves heavy import tariffs etc. Trade wars ensue and markets react very negatively. European election results may also end up with negative surprise results such as evidenced during 2016. Emerging markets in particular suffer.

Equities
Should do well in either of the more likely scenarios 1 or 2 above. Continued healthy earnings growth and strong balance sheets with generally still ok valuations underpin this upside.

Bonds

Global government bond yields are not far from historic low levels and in unprecedented territory driven by ‘lower for longer’ official interest rates and central bank buying. A more confident world economy consistent with 1 or 2 is not positive for bonds and will confirm Q4 2016 as being the low point for yields.

Noel O' Halloran, Chief Investment Officer, KBI Global Investors

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. The views expressed above are expressions of opinion only and should not be construed as investment advice.

Over recent quarters we have seen global equity markets hitting all time highs while at the same time there has been extensive media coverage of pension fund deficits blowing apart pension schemes. While they seem quite contradictory, both of course are correct because equity market levels affect the assets of a pension scheme, while its liabilities are calculated with reference to government bond yields – the lower the yield, the higher the liabilities. With government bond yields at historic low levels until recently, liabilities rose more quickly than assets, pushing up deficits to levels that in some cases have become unsustainable.

As a result defined benefit pension trustees are under pressure to buy government bonds. I strongly challenge this and indeed increasingly over recent quarters there are trends I highlight that are dominating thinking and investment flows that make me nervous:

The advice to de-risk pension schemes by selling equities to buy government bonds to reduce deficits

The move from active to passive equity management

Buying yesterday’s winners

This dominance of these trends make me nervous and lead me to the old phrase - “If everybody is thinking the same, then nobody’s thinking!”. Just as trees don’t keep growing to the sky for ever, many market ‘winners’ do reach a crescendo of hype which means that it’s time to get nervous and take action as an investor. Remember the great investment trends such as buying dot com stocks as they soared in the early 2000s, the move into Irish property during the mid 2000s and other such ‘winning’ trades? As we all know now, it turns out they were classic investment bubbles.

Thinking the unthinkable reminds me that this month, for the second time in six months, the world has seen a dramatic political outcome that completely caught consensus off-side. And for the second time in six months, global equity markets have not only survived the aftermath, they have thrived which is the exact opposite of what the consensus would have expected.

‘Thou shalt not worship false gods’ and so what about this recommended buying of government bonds — buying yesterday’s winners? Over recent weeks we have finally witnessed a material rise in bond yields and in my view there is a strong possibility that we have begun to finally burst the global bond bull market (bubble?). Will the election of Trump be recorded in the annals as the catalyst to burst the 35-year bond bull market?

Some arguments that make me believe that a further increase in bond yields is likely to happen include an increase in growth and inflation expectations and an increase in fiscal spending which will push up government borrowing. It makes, in my view, much more sense for pension trustees to wait and see for a period whether these factors themselves reduce pension deficits via higher bond yields, rather than buying government bonds at their current, very expensive, levels.

It’s been a peculiar world since the global financial crisis in 2008, one where investors are constantly worried about something! Nonetheless it has been a strong equity bull market, since the first quarter of 2009. This bull market has been a difficult one for many active asset managers who have struggled to beat their index and we have therefore seen a massive redirection of investor money towards indexed equity funds – again buying yesterday’s winners?

In my view the bull market has created significant valuation dislocations in large cap stock indices today. I believe strongly that buying the index is buying the highest risk and most inflated elements of the market right now. I remember active managers making similar anti-consensus arguments about technology stocks in the early 2000s and Japan in the late 1980s---they were right and I feel similarly today. Passive management is buying yesterday’s winners. Active management is aimed at buying tomorrow’s!

Noel O’Halloran, Chief Investment Officer, KBI Global Investors

KBI Global Investors Ltd is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request.

Eoin Fahy, Chief Economist, KBI Global Investors shares his view following the announcement of the US Election results.

Although Mr Trump won by a very narrow margin in terms of total votes, the nature of the US electoral system is such that the Republican party now controls not only the presidency, but also both houses of Congress. While markets are understandably nervous about the likely policies of the new President, and in particular his attitude to international trade, including existing trade agreements, the fact that one party controls all of the government should make it easier for legislation to pass, in sharp contrast to recent years when a divided congress made this extremely difficult. The relatively subdued response of the financial markets (at the time of writing) probably reflects at least some degree of optimism that the new administration will be able to significantly increase spending on infrastructure and reform the US corporate taxation system, again benefitting US businesses. It is also possible that a part of a possible corporate tax reform could include measures to encourage the repatriation of cash held overseas by US corporates.

Of course, the markets will be focussing on Mr Trump’s choice of key personnel (hoping to see experienced policymakers in charge of the Treasury and the State Department, for example, as well as an indication of who Mr Trump would like to see heading the Federal Reserve when Janet Yellen’s term ends), and even more importantly will be watching closely to see if the new administration will follow through on his commitment to renege on international trade agreements and take a much tougher approach to existing, and new, trade deals.

The president-elect’s policies on trade will be a key focus in the weeks and months ahead, in our view. Mr Trump clearly favours new, and much more restrictive, controls on international trade, and for example, has said that he wishes to renegotiate the North American Free Trade Agreement (NAFTA). It is not unusual for elected politicians, however, to change their views on key issues after they have been elected, and at this stage the markets do not seem to be expecting material, significant, and adverse changes to international trade. If, however, Mr Trump really did press ahead with radical changes to NAFTA, or indeed unilateral withdrawal from NAFTA, this would most likely come as a significant and unwelcome shock to the markets.

The president-elect also spent a great deal of time during the campaign talking about China and trade, and making it clear that he would seek to restrict/penalise some types of imports from China, and also insist that China open up its markets to more US exports of goods and services. Again, it is difficult to say at this stage whether he will follow through on his campaign rhetoric, but disruption to the arguably the most important trade flow in the world, that between the US and China, would clearly damage world economic growth and again would not be welcomed by the markets.

In view of the importance of trade to the incoming president and to the financial markets, it is important to note that most legal experts agree that the US president has considerable legal powers in the area of international trade, and does not necessarily need support and/or approval from Congress in order to significantly change trade policy in many important respects.

A further issue for consideration, especially for the government bond market, is that Mr Trump’s policies seem likely to push up the US budget deficit. This, together with higher inflation resulting from higher trade barriers and/or unskilled labour shortages due to immigration restrictions, should push up bond yields somewhat, which in turn might favour stocks with a value bias.

Our conclusion is that at this very early stage, it does seem clear that the election of Mr Trump will lead to higher uncertainty and a potential for significant change in economic policies, but it will take some time for markets to digest these changes. Different segments of the financial markets are beginning to assess the impact of Mr Trump’s policies, if implemented, and as a result a period of considerable volatility and uncertainty lies ahead, in our view.

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. The views expressed in this document are expressions of opinion only and should not be construed as investment advice.

On a dramatic day for UK, European, and the global financial markets, Eoin Fahy, Chief Economist, takes a look at the Brexit issue and in particular at five 'Myths’, that have arisen about what happens next.

Myth 1: As the UK is now set to leave the European Union, governments will now move quickly to introduce border controls on trade between the UK and the EU.

Reality: The UK’s vote to leave the EU is the start – not the end - of the exit process. It is likely that it will be late 2018, at the earliest, before the UK could legally exit, and it could in fact be considerably later than that. The exit mechanism in European law states that once the UK formally informs the EU of its intention to leave, under the terms of Article 50 of the European Treaty, a two-year period of negotiations begins, at the end of which the UK would legally leave. This period could only be extended by unanimous agreement of all 28 countries involved. However, there have been some suggestions that the UK might opt not to invoke this particular article of the Treaty, as it puts inconvenient time limits and restrictions on the exit process. Instead it may start a more informal set of negotiations to facilitate the exit.

Either way, however, it is very clear that barriers to trade between the UK and the EU will not be in place in the immediate future.

Myth 2: The European Union is falling apart.

Reality: The Brexit vote is a real blow to the EU, but it cannot be said to be “falling apart”. The fact that one country has voted to leave should be seen in the context of the growth (not decline) of the number of countries in the EU in recent years. Prior to 1973, there were only six countries in the EU. That grew to 12 in 1986, 15 in 1995, 25 in 2004, 27 in 2007 and 28 in 2013. The departure of one country, even the UK which is the third-largest member with about 13% of the EU population, does not mean that the union is falling apart. This is perhaps especially the case for the UK, which has always been seen as somewhat “semi-detached” from the EU, with much less enthusiasm for the EU at official and general public level than in most other EU member states.

To be fair, while it’s wrong to say that the EU is falling apart, it is not impossible to make the case that the UK’s departure could (note could, not will) lead to further departures over the next few years. The EU is unpopular in some countries such as Denmark, and the Dutch electorate recently voted against an EU agreement with Ukraine in a sign, perhaps, of its disaffection with the EU. In Greece, to date the electorate appear to continue to favour EU membership notwithstanding the extreme difficulties there, but further austerity measures and social unrest could change that picture. And there is always the possibility that the UK will lead to populist parties in other countries organising similar referenda, potentially with similar results. But this does seem unlikely at this stage, and certainly not a “done deal”.

Myth 3: Brexit will inevitably lead to a recession in the UK, and probably in Europe as well.

Reality: There can be little doubt that Brexit is negative for the UK economy, as has already been stated by a myriad of independent institutions and economists, inside and outside the UK. But we need to be careful not to confuse “slow growth” with “recession”. A recession is a possibility; there is no doubt about that, particularly if the UK’s exit is badly handled. A scenario where negotiations failed to achieve an agreement to allow reasonably tariff-free access to each other’s markets could lead to a recession if it had a very negative effect on trade.

But it’s much more likely that the negative impact would be felt over several years, keeping growth to a much lower level than would otherwise have been the case, and could well push up the unemployment rate, perhaps.

Turning to the impact on the rest of Europe, the negative impact on trade, and business confidence, is most unlikely – in its own right – to be big enough to cause a recession. While trade with the UK is important, the UK is just not important enough to cause a recession for a trading bloc as large as the eurozone.

That said, a recession in Europe is nonetheless possible (though not probable) as a result of a different channel, i.e. a repeat of the European sovereign debt crisis. One conceivable scenario is that investors become concerned that other countries will leave the EU and it will eventually break up completely. In that scenario, weaker countries could no longer expect financial support from wealthy countries like Germany, or from the European Central Bank, and so in an extreme case they might be forced to default on their debts.

Bond yields for peripheral, high-debt countries like Portugal, Greece, Spain and Italy would soar, and the damage to business confidence, combined with an inevitable credit crunch, would cause a sharp recession in Europe.

This scenario is unlikely and certainly not our base forecast, however.

Myth 4: The result of the referendum means that the issue is now closed. The electorate has spoken and the UK will certainly now leave the EU.

Reality: While it is certainly very likely that the UK will leave, it is not a certainty. As mentioned above, it will probably be at least two years before the UK could legally leave the EU, which gives plenty of time for UK and European politicians to reach an agreement on revised terms for UK membership of the EU, allowing a second referendum to be held, this time – potentially - resulting in a vote to Remain in the EU. We should not forget that a substantial majority of the members of the UK Parliament are in favour of remaining in the EU – approximately half of the ruling Conservative Party, as well as the considerable majority of the various opposition parties.

That said, a reversal of the decision would not be easy to achieve. Outgoing Prime Minister David Cameron has explicitly said that another referendum is not a possibility, and he or any other politician trying to overturn the referendum result could be seen to be defying the vote of the people, so they would need to be able to argue that circumstances have changed so much that a second vote is necessary. This is possible, but unlikely.

Myth 5: Protest parties now dominate European politics.

Reality: It is easy to look at the UK electorate’s vote to leave the EU, combined with the strong showing of many other protest/populist parties across Europe, and conclude that these protest parties are about to take power in Europe. But the facts say otherwise. In the most recent general or Presidential elections, most of these parties obtained support ranging from about 15% to 25%. In Spain, Podemos took 21% of the vote in its most recent general election, while the Five Star movement in Italy got 26%, Syriza in Greece reached 35%, Sinn Fein in Ireland took 14%, the National Front in France took 18%, and the UK Independence Party (UKIP) took 13%. The exception is Greece, where Syriza took about 35% of the votes (but due to an unusual voting system, came very close to forming a majority government). These vote shares show a high level of support, certainly, but far below majority status.

The bottom line: populist/protest parties are now an important political bloc in many European countries, but they certainly do not dominate parliaments and they seem unlikely to take power anywhere other than Greece.

DISCLAIMERS:

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. Details about the extent of our regulation by the Financial Conduct Authority are available from us on request. KBI Global Investors (North America) Ltd. is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. KBI Global Investors (North America) Ltd. is a majority-owned subsidiary of KBI Global Investors Ltd.

IMPORTANT RISK DISCLOSURE STATEMENT

This material is provided for informational purposes only and does not constitute an offer to sell or the solicitation of an offer to purchase any security, product or service including any group trust or fund managed by KBI Global Investors. This introductory material may not be reproduced or distributed, in whole or in part, without the express prior written consent of KBI Global Investors. The information contained in this introductory material has not been filed with, reviewed by or approved by any regulatory authority or self-regulatory authority and recipients are advised to consult with their own independent advisors, including tax advisors, regarding the products and services described therein. The views expressed are those of KBI Global Investorsand should not be construed as investment advice. We do not represent that this information is accurate or complete and it should not be relied upon as such. Opinions expressed herein are subject to change without notice.

The early weeks of 2016 were dominated by a very nervous and negative market environment, with headlines at the time being dominated by talk of the potential for global recession and persistent fears about deflation. The quarter ended on a much more confident note, with risk assets including equities rallying strongly and confidence restored in the global economic recovery and the health of the corporate sector. This ‘tug-of-war’ between for example; growth or recession, inflation or deflation, rate rises or rate cuts is something we as investors are now well accustomed to. As for outlook, we at KBI remain in the ‘glass half full’ camp as we have done since the global economic and market recovery commenced after the 2008 global crisis. Market volatility remains a constant feature as do the supportive actions of central banks, which once again came to the fore during the second half of the quarter. As such the first quarter of 2016 in many ways was a quarter of two halves, finishing on a more upbeat note. I continue to see equity market dips as a buying opportunity.

The more recent Federal Reserve comments have moved to reassure markets that interest rates would not be raised excessively, quickly or without regard to financial market fragility, have provided this strong underpinning to markets. Meanwhile, the European Central Bank measures to boost bank lending and growth, including an expansion of its bond-buying programme, is also a positive. The central banks I believe will continue to support slow but steady economic growth. This growth while positive is unlikely to be robust at any time soon as we work through debt and other global overhangs.

Equities

As stated above, I regard market setbacks as an opportunity and not a threat. We are not as yet calling an end to the bull market that commenced during 2009 and I believe we have more years to run. A global economic and earnings expansion (albeit modest), supports higher equity markets from here. Equity markets in aggregate remain fairly valued and attractive versus other competing asset classes.

During the latter half of 2015 and at the beginning of 2016 I highlighted material dislocations within equity markets and felt strongly these couldn’t be sustained. I highlighted the following dislocations which concerned us:

Growth stocks that were showing a significant outperformance over value stocks at magnitudes not seen since the early 2000s TMT levels.
​

I noted a major polarisation in relation to dividend yield, where for example in North America over the prior 15 months the lowest yielding quintile of stocks had outperformed the highest yielding quintile by in excess of 20%.

These trends in all cases had resulted in major valuation gaps well beyond historic norms, which made us very uncomfortable.

At that point, I was anticipating a rotation from many of these extreme positions as I believed it would lead to a healthier overall stock market. Happily and interestingly there has been a relatively noticeable change in the first 5 months of 2016, with sector relative performance rotation; higher yield outperforming zero yielding stocks for example and a generally less defensive undertone helping value stocks and outperforming Emerging markets. We have also experienced a much better tone to commodity markets and to the surprise of many (not including us at KBI) a weakening dollar and some strength in Emerging market currencies. While the style shift year-to-date has been helpful, it has been modest from a mean reversion perspective, with potentially much more outperformance to be achieved from here I believe.

Fundamentals do always matter in the end and our concerns during 2016 was that in a risk-off/defensive mindset investors were almost investing for ‘growth at any cost’ and on the other side better valued companies or industries that were perceived as more pro-cyclical/less defensive were sold despite valuation. This is the big rotation I highlight year to date which can continue.

Meanwhile the corporate sector is in good health, with plenty of cash on its balance sheet and relatively little debt. A key driver for markets will be continued positive earnings growth over the next few quarters. I expect an increase in Merger and Acquisition activity, but also a focus on dividend yield and growth and other ways of returning cash to shareholders.

Bonds

Global government bond yields remain close to and increasingly in many cases below historic low levels. A more confident world economy and increased inflation expectations over coming quarters should again not be positive for bond yields and I would expect yields to trend higher.

To conclude, I remain positive on the outlook for the global recovery and believe equities will continue to be beneficiaries of this. In contrast, while short term central bank behaviour is seen to underpin bond markets, I remain very bearish on a more medium term horizon.

Noel O’ Halloran, Chief Investment Officer

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. KBI Global Investors (North America) Ltd. is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. KBI Global Investors (North America) Ltd. is a majority-owned subsidiary of KBI Global Investors Dublin Ltd. This material is provided for informational purposes only and does not constitute an offer to sell or the solicitation of an offer to purchase any security, product or service including any group trust or fund managed by KBI Global Investors (North America) Ltd, or any of its affiliates, (collectively, “KBI Global Investors”). The views expressed are those of KBI Global Investors and should not be construed as investment advice. We do not represent that this information is accurate or complete and it should not be relied upon as such. Opinions expressed herein are subject to change without notice.

Markets remain extremely nervous with headlines at present being dominated by talk of the potential for recession and persistent fears about deflation.

For China which is the number one concern right now, we remain confident that despite delivering lower growth than prior years the economy will still deliver 6-7% GDP growth. Growth in the US and Europe remains reasonably solid with Europe expected to grow even more strongly than 2015 at close to 2% growth and the US is likely to deliver 2.5%. The US Federal Reserve will very slowly continue to raise their key interest rate over coming quarters. The ECB will maintain their very pro-growth stance having recently extended their QE programme. Commodity markets are friendless at present, but we do expect to see commodities bottom out as excess inventories are worked through in many global commodities.

Equities

After a relatively straight line bull market of six years since 2009, the current start of year market setback is not a surprise. Indeed many have been calling for this setback for some time. At KBI we regard this as a market correction and not a renewed bear market. We are not forecasting that the global economy will go back into a recession in 2016, which the markets are currently challenging. Equity markets in aggregate look to be fairly valued. ‘Inside’ the equity markets however, some major divergences have emerged over recent quarters for example:

Growth stocks are showing a significant outperformance over value stocks not seen since the early 2000s TMT levels
We note a major polarisation in relation to dividend yield, where for example in North America over the last 15 months the lowest yielding quintile of stocks have outperformed the highest yielding quintile by in excess of 20%
Significant industry group performance divergences. For example Healthcare (biotechnology) and IT significantly outperforming versus industrial sectors
The outperformance of Developed markets over Emerging Markets

These trends in all cases have resulted in major valuation gaps well beyond historic norms. We would anticipate and welcome a rotation from many of these extreme positions as we believe it would lead to a healthier overall stock market.

Meanwhile the corporate sector is in good health, with plenty of cash on its balance sheet and relatively little debt. A key driver for markets will be continued positive earnings growth over the next few quarters. We expect an increase in Merger and Acquisition activity, but also a focus on dividend growth and other ways of returning cash to shareholders.

Bonds

Global government bond yields remain close to or in some cases historic low levels. A more confident world economy over coming months and quarters should again not be positive for bond yields and we would expect yields to once again trend higher .

To conclude, we remain positive on the outlook for equities in contrast to the current bearish and overly cautious consensus.

KBI Global Investors Ltd. is regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority in the UK. KBI Global Investors (North America) Ltd. is a registered investment adviser with the SEC and regulated by the Central Bank of Ireland. KBI Global Investors (North America) Ltd. is a majority-owned subsidiary of KBI Global Investors Ltd. This material is provided for informational purposes only and does not constitute an offer to sell or the solicitation of an offer to purchase any security, product or service including any group trust or fund managed by KBI Global Investors (North America) Ltd, or any of its affiliates, (collectively, “KBI Global Investors”). The views expressed are those of KBI Global Investors and should not be construed as investment advice. We do not represent that this information is accurate or complete and it should not be relied upon as such. Opinions expressed herein are subject to change without notice.

Noel O’Halloran, CIO of KBI Global Investors got off to a flying start as an aeronautical engineer. The scientific approach this experience engendered has paid off in his current role. By Mark Battersby

Where to from here...can equity markets keep going?Despite the strong returns achieved last quarter, for euro investors in particular, I continue to take the ‘glass half full’ view and believe that equities can make further progress over the next 12 -18 months. It’s worth highlighting that in absolute valuation terms, equities are no longer cheap, as the MSCI World equity index is now on a P/E ratio (using 12 month trailing earnings) of 18 versus the 16.9 times historic average, and so equities are now above fair value relative to history. My core expectation from here is that further upward progress will be in line with earnings and dividend growth rather than by further P/E expansion. The slow-but-sure economic recovery we forecast will support this.

I could go further and highlight that there is perhaps a 20% chance that equities continue to perform strongly and continue to rerate even further upwards to a P/E of say 20. In a world where many major central banks continue to make strong efforts to boost growth (and inflation) through Quantitative Easing (QE) and other means, bountiful liquidity continues to flow into the financial system which can first drive asset prices strongly upwards, with the real economy responding with a lag. That abundant liquidity has already had a strong impact on government bond markets – with many eurozone government bonds yields being below zero for periods out to 5-7 years, or longer in some cases.

Those low bond yields, and very low deposit rates (negative in many cases) also support equities as they make bonds and deposits, the traditional alternatives to equities, extremely unattractive relative to equities, particularly equity strategies with appealing dividend yields of say 4%.

Where can it go wrong.....the key remains growth?

This equity bull market is now six years old and probably one of the few in history where investors have worried the whole way up. For me there are no signs of exuberance, such as we saw for example during the ‘TMT’ bubble of the early 2000s, as for every positive I can highlight, there can be a corresponding concern or worry.

For me THE key issues to watch will be:

1) The US economy. Growth in the US has been quite weak during the first months of 2015 with events such as severe weather being blamed. A rebound is expected by the markets and by most economists over coming quarters. If this does not happen, it would be a material unexpected negative as the US remains THE engine of the global recovery. This would have negative implications for the earnings and dividend growth I highlight above.

2) Chinese growth. The Chinese government has been directing and managing a slowdown in their economy, towards or slightly below the 7% growth level. This has been achieved without any significant dislocations to markets or society. Any further significant slowdown from here to say 3 or 4% growth would be a significant negative for global equities

3) The impact of ‘QE’ in Europe. An obvious issue to watch is whether the ECB's QE programme will bear fruit. It's early days but there has been a more positive tone and indeed an economic pickup in Europe over recent months. A relapse would be provide a meaningful challenge and, at the least, a meaningful setback to equity markets. Greece will also remain in the European headlines

4) Market breadth in the US. While I remain generally relaxed, I am not relaxed with what I perceive to be quite a narrow and unhealthy US stock market. Over recent months in particular the market has been hitting new highs but led by a very narrow list of stocks in high-momentum, high-valuation sectors such as biotechnology and new-economy technology stocks. Large parts of the market aren't participating in these new highs. I would look to see the leadership in the market rotate and broaden out over coming quarters as if it doesn't, for me it would begin to echo the early 2000s market which would not be positive.

5) Strange bond markets! To fundamentally rationalise bond yields at current yield levels is pretty impossible. The distortion created by central banks buying is seemingly very apparent. When I see for example that Danish home buyers now get paid by their bank to take out a mortgage or the Mexican government launches a 100 year bond denominated in Euros at a yield of just 4%, it’s not normal. Similarly when I was told that wealthy Swiss savers are now taking the money from their local Swiss bank account and lodging it in security company vaults and paying them 15 basis points per annum for the privilege because it’s cheaper than the negative rates the banks are paying, it’s certainly not normal! At some point just as with the TMT bubble, this bond bubble will burst. To pinpoint when or how is the difficult bit.

To conclude, despite strong returns to date, equities remain the asset class of choice against pretty much zero returns on cash and bond markets which are fundamentally unattractive in our scenario. From a macro perspective, the main change we expect to see over the next couple of months is confirmation of improved growth and activity in Europe, where a combination of the lower euro, much lower energy prices, and QE by the European Central Bank is expected to boost consumer and business spending, as well as exports. Other economies are also expected to grow at a reasonable rate. Globally, we expect to see further cuts in interest rates, particularly in Emerging Markets, but in contrast US interest rates are likely to rise (for the first time in many years) in the autumn.

Meanwhile the corporate sector is in good health, with plenty of cash on its balance sheet and relatively little debt. We expect an increase in Merger and Acquisition activity, but also a focus on dividend growth and other ways of returning cash to shareholders. Against this background in our portfolio construction we continue to emphasise stocks with strong cash flows, attractive balance sheets and strong and attractively positioned businesses. In a world of zero or negative cash rates, I expect equities with attractive and growing dividends to remain winners.